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The bombshell lurking in your financial plans

According to Evan Carmichael, as many as four in five small businesses don't have a business plan. At all.

So one in five of you reading this is probably feeling a bit smug. But should you be?

A key objective of your business plan should be to set out the detailed roadmap you're intending the company to follow in order to create equity value and an income stream.

If your strategy involves getting investment, or selling the firm you've built, beware. Your business plan inevitably includes financial projections - and guess what: in several years' time, it is quite likely that you'll be asked to dust of that old plan (and subsequent revisions) and tell your buyer/investor how you've done against those forecasts.

The scenario typically unfolds as follows:-

  1. you enter discussions about an investment / sale with a current business plan showing earnings growth of X% based on Y and Z happening;
  2. an offer is made and received on that basis;
  3. during due diligence, a request is made for the provision of past business plans;
  4. the investor/buyer observes that you have wildly missed your previous projections, and questions whether your X% growth projection is achievable;
  5. things get messy;

One method we've seen to navigate this issue involves structuring your plans so there are internally and externally publishable financial projections.

The internal plan will represent the output of your normal business planning process, whilst the external plan is a more heavily discounted version.

As an example, let's imagine a UK consulting business in the energy sector that currently has 30 people ('Ener-Consult'). There is a sustainable growth opportunity from current clients, a decent market opportunity to expand into the adjacent utilities sector, and their services are readily transferable to the French and German markets. Ener-Consult's internal plan calls for them to double the size of the business in three years, including making a material move into the new sector and markets. However, they prudently prepare their external plan by increasing the potential churn of clients in their current market and heavily discounting the new sector and market plans. The company, however, continues to use the internal plan to drive performance (and stretch the management team).

Ultimately, actual performance falls between the two scenarios. Ener-Consult is then approached with a substantial offer to acquire the business. At this stage, updated projections are available, of course. Management is able to articulate to the acquirer that these projections already incorporate an appropriate level of discounting, and point to their historical performance against the discounted internal plan as evidence of track record.

A key advantage is a change in the pyschology - there is now less questionning of the validity of the current internal plan, and the focus shifts to questionning if / how the more aggressive external plan can be achieved. This is a much more positive place for the discussion to be centred when entering the critical due diligence phases.

Published: 03-06-14 by Phil Baxter

small business, start ups, business planning